Greg Blotnick – CFA/NYSSA Membership, LinkedIn and Facebook

Wilbur Ross – Infrastructure Finance

The Trump infrastructure plan features a major private sector, revenue neutral option to help finance a significant share of the nation’s infrastructure needs. For infrastructure construction to be financeable privately, it needs a revenue stream from which to pay operating costs, the interest and principal on the debt, and the dividends on the equity. The difficulty with forecasting that revenue stream arises from trying to determine what the pricing, utilization rates, and operating costs will be over the decades. Therefore, an equity cushion to absorb such risk is required by lenders. The size of the required equity cushion will of course vary with the riskiness of the project. However, we are assuming that, on average, prudent leverage will be about five times equity. Therefore, financing a trillion dollars of infrastructure would necessitate an equity investment of $167 billion, obviously a daunting sum.

We also assume that the interest rate in today’s markets will be 4.5% to 5.0% with constant total monthly payments of principal and interest over a 20- to 30-year period. The equity will require a payment stream equivalent to as much as a 9% to 10% rate of return over the same time periods. To encourage investors to commit such large amounts, and to reduce the cost of the financing, government would provide a tax credit equal to 82% of the equity amount. This would lower the cost of financing the project by 18% to 20% for two reasons.

First, the tax credit reduces the total amount of investor financing by 13.7%, that is, by 82% of 16.7%. The elegance of the tax credit is that the full amount of the equity investment remains as a cushion beneath the debt, but from the investor point of view, 82 percent of the commitment has been returned. This means that the investor will not require a rate of return on the tax credited capital. Equity is the most expensive part of the financing; it requires twice as high a return as the debt portion, 9 to 10% as compared to 4.5 to 5.0%. Therefore, the 13 percent effective reduction in the amount of financing actually reduces the total cost of financing by 18 to 20 percent.

By effectively reducing the equity component through the tax credit, this similarly reduces the revenues needed to service the financing and thereby improves the project’s feasibility. These tax credits offered by the government would be repaid from the incremental tax revenues that result from project construction in a design that results in revenue neutrality. Two identifiable revenue streams for repayment are critical here: (1) the tax revenues from additional wage income, and (2) the tax revenues from additional contractor profits.

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